The purpose of this Issue Brief is to provide an understanding of tiered provider networks and the issues involved, with an emphasis on tiered hospital networks. Under a tiered provider network benefit structure, employees pay different cost-sharing rates for different tiers of providers.

Tiered provider networks are essentially a variation of a long-standing practice of providing one level of benefits to employees who use in-network providers and another level of benefits for use of out-of-network providers. The introduction of tiered provider networks is part of a larger movement to sensitize employees to the real cost of health care. For tiered provider networks to drive lower cost and better quality, consumers will need to be more knowledgeable about various aspects of health care and health insurance.

Employers and insurers are particularly interested in tiered networks to control spending on hospital services. As of 2001, Americans spent $1.4 trillion on health care services, $451 billion of which was for hospital care. While the growth rate for spending on hospital care services was only 8 percent in 2001, compared with 16 percent for prescription drugs, hospital care services accounted for 32 percent of all spending and 30 percent of the growth in spending.

Tiered provider networks allow employers and insurers to include all or most hospitals and health systems in their plan, thereby allowing them to move away from limited provider networks that are characteristic of many traditional health maintenance organizations.

By being exposed to higher out-of-pocket expenses, health plan participants will have more of an incentive to become engaged in the process of provider and treatment selection. This may provide additional pressure on hospitals and physicians to disclose information about costs and performance. However, while there is little evidence that tiering has had an effect on consumer choice between in-network and out-of-network physician care and prescription drug choice, it is unknown how large the difference in out-of-pocket payments would need to be before a significant number of consumers factor price into their hospital choices.

The difference in out-of-pocket payments may need to be substantial to generate changes in consumer behavior because inpatient services tend to be price inelastic, although employers may realize some savings even if only a few consumers change their behavior and choose lower-cost providers. Tiered networks may also increase the amount of uncompensated care that is provided by hospitals.

Tiered provider networks may result in providers renegotiating contracts if they are sensitive to being in the highest-cost tier. Some providers may view being in the higher-cost tier as driving patients to lower-cost providers and may take steps to renegotiate contracts to become lower-cost providers. Other providers may view being in the higher-cost tier as an indication that they are a high-quality provider and may use that to differentiate themselves from lower-cost providers.